MED CENTERS FEEL PHYSICIAN-PRACTICE PAIN

Chicago-area hospitals, which bought dozens of physician practices five years ago amid an industrywide acquisition binge, now are scrambling to sell, or drastically reshape, these unprofitable relationships.

Hospitals ranging from large systems to small institutions are taking drastic steps, including laying off hospital-employed physicians, linking physician salaries to strict productivity guidelines and selling the practices back to the doctors.

"The financial performance of hospital-owned physician practices right now is awful," says James Pizzo, a partner and consultant who oversees the physician services sector in the Chicago office of Ernst & Young LLP.

According to a national survey of hospital systems and group practices conducted by New York-based Ernst & Young, 96% of hospital systems reported losses in their physician practices this year, with losses averaging more than $111,000 per doctor. That's a sharp rise from 59% of organizations averaging losses of almost $87,000 per physician in 1998.

Yet in the mid-1990s, hospitals were drawn to physician practices for several reasons, including a fear that private health management companies -- which were paying high prices to sweep up physician practices -- would control physicians' hospital referral business.

"There was a Pac-Man frenzy going on," says Peter J. Murphy, president and CEO of St. James Hospital in Chicago Heights. "There was a fear that other hospitals would acquire physicians that had been loyal to you. The fear was they would steer patients away."

By buying physician practices -- the bulk of them consisting of primary care clinics with doctors in family practice or pediatrics -- hospitals were hoping to find a cost-efficient way to protect their turf.

Instead, the acquisitions have turned out to be financial disasters, as hospitals spent to provide employee benefits, technology support and other services to physicians, nurses and administrators.

Hospitals also attribute the physician practices' steep financial losses to the inflated prices paid for the acquisitions and declines in physician productivity.

"When you connect them with a large organization like ours, you inevitably increase overhead costs and you don't create any synergies that lead to savings," says Dr. Lee B. Sacks, chief medical officer of Advocate Health Care, who oversees the Oak Brook-based hospital system's 550 physicians at 58 Chicago-area locations. "It's very clear to us that running a collection of small practices doesn't work."

As a result, Advocate, which laid off 19 doctors earlier this year, says about 25 additional physicians from smaller practices will decide by yearend whether to join one of Advocate's three larger physician groups or terminate their employment and return to private practice.

Dr. Sacks declines to specify losses, but he says the division was unprofitable last year.

'No intention of selling'

Earlier this year, the University of Chicago sold its physician group back to the doctors, after the group posted a whopping $27-million loss in 1998, according to a source. U of C declined to comment.

Losses also have hit Northwestern Memorial Physicians Group (NMPG), a 53-physician practice owned by the parent of Northwestern Memorial Hospital. Its red ink increased in fiscal 1998 ended in August 1998 to $5.7 million, from $4.0 million in 1997.

Dr. Daniel Derman, president of NMPG, who attributes the red ink in part to the group's aggressive expansion, says the loss increased again in fiscal 1999 but now is shrinking. A hospital spokeswoman says Northwestern "has no intention of selling" NMPG.

Despite losses on physician practices, hospitals stress that there is an economic rationale to continuing to own and develop the groups -- if viewed as part of their overall revenue and profit picture.

At Northwestern Memorial, for example, its physician practice generates revenue and income for the hospital through inpatient admissions and referrals to specialists and subspecialists.

Meanwhile, Catholic Health Partners, which operates three hospitals in Chicago, is projecting a loss of $3.0 million to $3.5 million in fiscal 2000, ending December, with losses of about $70,000 per doctor in its 52-member physician group.

"We see almost 17,000 new patients a year through this network of physicians," says Mr. Fornari. "That means this network is the front door to Catholic Health Partners. There is some value."

Mr. Fornari says Catholic Health Partners is deciding whether to divest its physician group, form a joint ownership with doctors or align compensation with productivity.

At St. James Hospital, whose physician group posted a $2-million loss last year, 13 doctors are being terminated. CEO Mr. Murphy says they can join nearby Suburban Heights Medical Center, a practice now owned by St. James' parent company, Indiana-based Sisters of St. Francis Health Services.

Ingalls' decision

Meanwhile, Ingalls Hospital in south suburban Harvey, which agreed to be acquired by Sisters of St. Francis earlier this year, is requiring its 35 employed physicians to sign up for a productivity-based compensation model or lose their jobs.

Losses of more than $3 million annually led to the decision, says Scott Strausser, Ingalls' vice-president of business development.

Despite decisions to exit or alter the physician practice business, hospital executives say they're confident they can maintain patient volume through continued affiliations with the doctors.